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Understanding Real Estate Foreclosures – Solo 401k Investing

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Real estate has long been the darling of Solo 401k account owners. The Solo 401k gives you the freedom to invest in virtually any real estate deal, whether it be a rental home, a bargain at the foreclosure auction, or a syndicated “insider” real estate development.

Having full control with your Solo 401k places you in an ideal position to get an exceptional deal on a foreclosure purchase. This is because acquiring distressed property requires the ability to react quickly to opportunities as they arise. Your Solo 401k has this ability because you can immediately make a foreclosure purchase without relying on a third-party to arrange, review, and process the paperwork, which is almost always a lengthy process.

Understanding Pre-foreclosures and Foreclosures

Many people confuse pre-foreclosures with foreclosures, but knowledgeable investors should know the difference. Until the house is sold on the courthouse steps, it remains in pre-foreclosure. A house enters the pre-foreclosure process after the owner misses one or more mortgage payments and the lender sends a Notice of Default (NOD). In states requiring a judicial foreclosure, the formal paperwork is known as a Lis Pendens. Let’s say a lender gives a formal default notice on a house. This home is not a foreclosure at this stage. If an owner wants to and has the money to bring the loan current, the house is brought out of default and the homeowner returns to making payments according to the original loan agreement. However, the NOD is the beginning of the pre-foreclosure process.

The actual foreclosure process is brief. Foreclosure is the auction that happens on the courthouse steps. What some people think of as a foreclosure is Real Estate Owned (REO). If the house doesn’t sell on the court steps, the lender (bank) takes possession. The bank forecloses on the house. This becomes REO. The REO sales process is mostly the same as any traditional sales process. The bank lists the property with a real estate agent. Potential buyers inspect the entire house and negotiate terms and conditions for the purchase. The foreclosure process is the auction. It does not follow the traditional sales process.

The Pre-Foreclosure and Solo 401k Investors

As an investor, you want to understand the pre-foreclosure process so that you can find houses that are about to go through the brief foreclosure process. There are generally three ways you can find houses in pre-foreclosure. The legal paperwork for NOD and Lis Pendens is public records at the county recorder’s office. Digging through county records can take hours of your time. Fortunately, there is an easier way. NOD and Lis Pendens legal notices are published in the local newspaper. The legal notices section is typically part of the classifieds. Also, some websites and businesses gather this information into lists that you can purchase.

You can use the contact information from the public notices to hunt down the owners before the house goes to auction. Some houses will already be listed with real estate agents (owners trying to sell before being foreclosed on). Others will not. You may want to begin by contacting these sellers to try to negotiate a quick sell so that the seller avoids having a foreclosure listed on their credit report.

There are a couple of reasons why investors prefer to buy a house during the pre-foreclosure process. One is because when a house sells on the courthouse steps, it is sold “As-Is.” The investor does not have an opportunity to inspect the interior of the house before the sale. You might be able to drive by the house and look at the exterior, but you don’t have a legal right to inspect the interior. Another reason is that when you purchase a foreclosure, it is often your responsibility to evict the current tenants. You may have to go through the legal eviction process. You have the help of the sheriff, but this is not a pleasant process. With a Solo 401k purchase, you may have to hire someone to do the eviction to avoid providing a service that is a prohibited transaction.

Research Before the Foreclosure Auction

You have about a week from the time the property is listed for auction in the newspaper until it is sold. During this time, you can research the public documents regarding the house. You want to look for problems with the title and to learn if any liens exist against the property.

Public records aren’t always up to date or accurate. Without title insurance, this can be risky. After you make the purchase, a lien or title dispute can arise challenging your legal ownership. As far as clean title, you’re better off only bidding on houses being repossessed by major lenders that are first in line on the title. When the lender made the original loan, they required title insurance. That title insurance doesn’t protect you but it is a strong indication there was a clean title at the time of the previous sale.

Even if the title is clean, liens against the house can come up after the sale. Remember, the previous owner was almost certainly having dire financial problems. You may find yourself dealing with an IRS lien, an undocumented second mortgage, back property taxes, or other liens.

11th Hour Settlements and Redemption Periods

After doing your research, the house might not come up for sale. Sometimes, the owner finds a last-minute way of making a deal with the lender or repaying all the back mortgage payments and fees.

Know the regulations in your state. Some have a redemption period giving the previous owner months and even years to come up with the money needed to recover the house. You want to know what you can and can’t do with a house during a redemption period.

Enough about the risks associated with foreclosure auctions. Your Solo 401k can make great purchases at these auctions but do so only when you fully understand the risks involved. What’s important to know is that there are other opportunities during the foreclosure process. You don’t have to buy at the auction on the courthouse steps. You can also make great deals during pre-foreclosure or wait for the lender to sell it as REO if it does not sell at auction.

The Foreclosure Process on the Courthouse Steps

In most parts of the country, foreclosure auctions happen at the courthouse steps on a weekday morning. Foreclosure auctions and NOD listings are on the same legal notice section in newspapers.

Be aware that you must be prepared to pay cash or a substantial down payment if you are the high bidder on a property. That’s what makes this a fantastic opportunity with a Solo 401k. Auction purchases must be paid in cash or the equivalent. Personal checks, credit cards, and IOUs are almost universally prohibited.

The sheriff’s sale is the last step in the foreclosure process. It’s also usually the opportunity to acquire a property at the lowest possible price. But unlike tax liens investments, few if any sheriff sales are conducted online. You or a representative must be physically present at the sale. However, you can do online research for properties coming up for sale. Before the internet, sheriff sale information was and still is physically posted on the front door of the property, published in the legal section of a local newspaper, and a copy can be viewed at the sheriff’s office.

However, what is available online (or from other sources) is generally the minimum amount of information that local laws require. Typically, the information provided is:

  • Court case number (if applicable)
  • Property records description (parcel and lot number)
  • Street address
  • Amount of debt outstanding
  • The attorney representing the debt holder

Also, the sheriff’s website usually has a description of the auction process.

This includes:

  • the time and location of the auctions
  • minimum payment following the sale
  • acceptable forms of payment
  • full payment deadline
  • local laws that apply, such as the redemption period

Titling the Foreclosed Property in the Name of Your Solo 401k

In your state or at your county courthouse, you may come across a rule that says something like “100% of funds due at time of sale in Cashier’s checks made payable to the bidder as a natural person (Not as a Legal Entity).” Of course, your Solo 401k is a legal entity and this requirement may cause you some confusion or consternation. You will need to provide a check in the name of your Solo 401k, but there is a simple way to do this.

Your Solo 401k has every right to purchase a foreclosure at auction. It should just be a matter of how you have the cashier’s check or wire transfer issued. You may want to check with the representative collecting funds for the auction but there shouldn’t be a problem. What is important is that they will vest the property title in the name of your Solo 401k. To meet the requirement of a “natural person,” you have the cashier’s check issued in your name as the trustee of the plan. This is the same way that many investors have checks written for tax liens.

An example is, “Jill Wright, Trustee of Jack and Jill Solo 401k Trust.” In this example, the trustee’s name is Jill Wright and the plan’s name is Jack and Jill Solo 401k Trust. 

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